Definition of Cryptocurrency
Between 2009 and 2011, Bitcoin was the only cryptocurrency in existence until alternative coins—also known as altcoins—were created to improve on anonymity, speed, and security, amongst other properties associated with the field of cryptocurrency which Bitcoin pioneered.
There are many cryptocurrencies out there; in fact, as of April 2021, there were over 9,500 cryptocurrencies in circulation listed on the Coinmarketcap. This number is expected to increase in the future as people’s interest in cryptocurrencies keeps rising.
Although you might have heard about cryptocurrencies and known how it works, it’s possible you still don’t know what cryptocurrency actually is, or what it means. The topic of cryptocurrencies and the blockchain technology that drives them can be a bit confusing.
So, what is cryptocurrency? This article uses relatable terminology to explain in detail what cryptocurrency is, and the science of cryptography that decentralizes and drives cryptocurrencies, and makes them secure; generally, the following topics are discussed:
- Definition of cryptocurrency
- Cryptocurrencies are driven by the basics of cryptography
- Cryptography’s three main encryption methods used in cryptocurrency
- Cryptocurrencies and traditional currencies
- 5 benefits of cryptocurrencies that differentiate them from fiat currencies
Definition of cryptocurrency
Simply defined, cryptocurrency is digital currency or money. Technically speaking, cryptocurrency is a decentralized digital currency that is created based on the cryptographic principles (principles of cryptography) that are applied in blockchain technology.
Cryptography is a branch of scientific knowledge or mathematics that analyzes and deciphers codes and ciphertexts and cryptograms to secure information by converting it into unintelligible forms that provide security, enhance and maintain decentralization, and make it impossible or extremely difficult for third parties to understand.
Cryptocurrencies are driven by the basics of cryptography
Cryptocurrencies are driven by cryptography: the scripting language used in most cryptocurrencies is created with cryptography as its major pillar. The “crypto” in the word “cryptography” and “cryptocurrency” means “secret.”
In the world of cryptocurrency, the word “crypto” is synonymous with being “anonymous”. In ancient times, cryptography was used to send hidden messages. In fact, the term “cryptography” was derived from the Greek word “krypto logos” which means “secret writing”. The sender of a message would “encrypt” a message by using a “key”, and the receiver of the message would have to “decrypt” it.
When used in cryptocurrencies and their underlying blockchain technology, cryptography makes it difficult to create fake cryptocurrency tokens; on the other hand, it creates more transparency over the number of tokens created and issued to clients and held by them.
Cryptocurrencies use cryptography to keep their platforms safe, anonymous, and protected from double-spending which is a situation whereby a client’s cryptocurrency could be used or spent more than once.
Cryptocurrency platforms use cryptography in a way that makes it possible for anyone to open a cryptocurrency account without requesting permission from a third party or third parties. Instead of using names, account numbers, and passwords—like traditional or fiat currency platforms (banks, PayPal, etc.) do—cryptocurrency platforms use public keys as account numbers and digital signatures as passwords.
In the world of cryptocurrency, anyone can use a public key as their account number and create their own cryptocurrency account with their computer, phone, or device without asking a third party for an account and credentials to access or operate their account.
An account can be created by selecting a private key (which is a random number) and deriving a public key from it. A public key is generated from a private key; a private key is a random number because it is selected at random.
The account numbers of most cryptocurrencies, which are called “addresses”, are mathematically derived from public keys. Cryptocurrency addresses are the cryptocurrency accounts that people send/transfer cryptocurrencies from or use to receive cryptocurrency payments from other cryptocurrency addresses within the same platform (Bitcoin, Ethereum, Litecoin, etc.).
Nobody can spend any cryptocurrency from the address that belongs to its owner unless the owner gives someone or anyone else their private key. The owner of a cryptocurrency address is at liberty to create as many addresses as they want; their cryptocurrency wallet (which stores cryptocurrency) would manage the addresses on their behalf.
In the cryptocurrency world, although third parties have been eliminated in creating cryptocurrency accounts, there are actually parties involved in the central bookkeeping; however, such parties act in a decentralized manner with no actual party, person, or computer being in complete control of cryptocurrency bookkeeping.
Cryptography’s three main encryption methods used in cryptocurrency
1. Hashing or hash function
Hashing is used in cryptocurrency platforms like Bitcoin to guess the combination of a block’s lock, maintain the structure of blockchain data, encode clients’ addresses/accounts, and make it possible to mine new blocks. After a client inputs initial/original data, the hash function operates on the data and creates an output that is smaller in size but represents the original data.
2. Symmetric cryptography
In symmetric encryption, which is the easiest method employed in cryptography, both the sender and receiver of data use only one secret key; the major drawback of this encryption method is that before the initial data can be encrypted, every party in a transaction has to exchange the secret key used to encrypt the initial data.
3. Asymmetric cryptography
In asymmetric encryption, two keys are used: a public key and a private key. The receiver can use their public key to encrypt the initial message or data sent from someone else and received by them; however, the receiver can only use their private key to decrypt the initial data or message sent.
For the sake of clarity, it has to be stated that nodes are not among the main encryption methods. Nodes are the computers, printers, or cellphones that are connected to the internet and are on the blockchain network. In the type of cryptography used in cryptocurrency, nodes serve as electronic devices that do bookkeeping in the blockchain network of respective cryptocurrencies and make the decentralization of cryptocurrencies possible.
Cryptocurrencies and traditional currencies
Bitcoin was the first cryptocurrency to be created, and many other cryptocurrencies have been created over the years after Bitcoin was established. Although cryptocurrencies like Bitcoin are created through a process called “mining”, not all cryptocurrencies are being mined. The process of mining or creating cryptocurrencies is very different from the traditional method of mining ore and precious metals.
Traditional or fiat currencies like the dollar, pound, and euro—which are not cryptocurrencies—can be digitally transferred, but cryptocurrencies (Bitcoin, Ethereum, Litecoin, etc.) can’t be digitally transferred in the same way that fiat currencies can because there is a difference between their respective transfer processes and the technology that drives them.
Regardless of whether a cryptocurrency is mined or not mined, its transaction needs validation in its own blockchain network; this implies that transactions have to be verified by people in the network in order to provide proof for the transactions and ensure that the same cryptocurrency token hasn’t been spent twice. The extent of validation in a cryptocurrency network is completely different from the one applicable to fiat currencies.
Although each cryptocurrency is gradually becoming mainstream like traditional currencies that are being used to make payments electronically on some platforms, traditional currencies aren’t created and transferred the same way cryptocurrencies are created and transferred.
5 benefits of cryptocurrencies that differentiate them from traditional/fiat currencies
Until quite recently—probably a few years ago—many people underrated how important cryptocurrencies they would become in the near future. Cryptocurrencies help in areas where the world’s traditional currencies have issues. The main benefits of cryptocurrencies are:
1. They empower people to be in charge of their own money. Governments and central banks have a lot of control over fiat currency, and in many instances, have frozen people’s accounts and denied them access to their funds because of one reason or another. Governments may even decide to get rid of high-value banknotes the way India did in 2016 when it wiped out 550- and 1000-rupee notes from circulation; these notes represented around 87% of the total cash in circulation.
2. They make it possible for currencies, mostly cryptocurrencies, to be transferred much faster and at less expensive rates because middlemen or third parties aren’t involved. On the other hand, the transfer of fiat currencies is usually slow, and transactions are expensive because of the involvement of middlemen or third parties such as brokers, banks, and escrows, etc.
3. They make it easy for most of the world’s unbanked and underbanked population to have access to the financial services offered by the blockchain technology of their respective platforms. On the other hand, fiat currencies make it difficult for approximately half the world’s population (over 3 billion people) to have sufficient access to modern-day financial services.
4. They reduce corruption and provide a much more fair playing field because they are decentralized and not controlled by governments or banks. With fiat currencies, there is a consistent rise in financial inequality around the world. Usually, when one person or few people are in power, there is a high possibility for them to abuse power and increase it.
5. They increase in value and don’t tend to create inflation/negative effects of inflation because, unlike fiat currencies, they can’t be printed excessively. Most cryptocurrencies are limited to a number of coins that can be printed. There is no way for a central authority or the blockchain to simply create more coins to add to the predetermined or existing supply. With fiat currencies, there are problems and negative impacts of inflation because governments and central banks can simply print a lot of money whenever they are faced with serious economic problems. However, when governments print more money, the value of their currencies drops to such an extent that inﬂation drastically increases and makes it difficult or impossible for its citizens to buy everyday goods and services.